40 bits of trading wisdom

Here is another post aimed at spreading practical wisdom about trading. Similarly to the 38 steps to becoming a trader one, I found this again in my remarks. After some google-ing the original source link seems to point to Traders-Talk forums at http://www.traders-talk.com/mb2/index.php?showtopic=17232

Most of the items below are really valuable. The point is they have to be followed in real to bring value. Any comments are welcomed.

Forty Bits of Trading Wisdom
Condensed from Capitulation's 40 posts.

1. If you want to stay in this business, leave "hope" at the door and stick to your stops.
2. When you get into a trade, start looking for signs right away that you are wrong. If you see them, then get out before your stop is hit.
3. Trading should be boring, like factory work. If there is one guarantee in trading, it is that "thrill seekers" get their accounts grinded into nothing.
4. It helps to just follow a handful of stocks on any given day. Don’t jump on the “next hot thing.” Develop your plan and stick to your plan.
5. You are trading other traders, not the actual stock. You have to be aware of the psychology and emotions behind trading.
6. Be very aware of your own emotions. Irrational behavior is every trader's downfall. If you are yelling at your computer screen, imploring your stocks to move in your direction, you have to ask yourself, "Is this rational?" Ease in. Ease out. Keep your stops. No yelling.
7. Watch yourself if you get too excited—excitement increases risk because it clouds judgment.
8. Don’t overtrade—be patient and wait for 3-5 good trades.
9. If you come into trading with the idea of making “big money,” you are doomed. This mindset is responsible for most accounts being blown out.
10. Don’t focus on the money. Focus on executing trades well. If you are getting in and out of trades rationally, the money will take care of itself.
11. If you focus on the money, you will start to impose your will upon the market in order to meet your financial needs. There is only one outcome to this scenario: you will hand over all of your money to traders who are focused on protecting their risk and letting their winners run.
12. The best way to minimize risk is to not trade. This is especially true during the low-volume “chop and slop” found during the afternoon trading session. If your stocks are not acting right, then don't trade them. Just sit and watch them and try to learn something. By doing this you are being pro-active in reducing your risk and protecting your capital.
13. There is no need to trade 5 days per week. Trade 4 days per week and you will be sharper during the actual time you are trading.
14. Refuse to damage your capital. This means sticking to your stops and sometimes staying out of the market.
15. Stay relaxed. Place a trade and set a stop. If you get stopped out, who really cares? You are doing your job. You are actively protecting your capital. Professional traders actively take small losses. Amateurs resort to hope and sometimes prayer to save their trade. In life, hope is a powerful and positive thing. In executing a trade, hope is a virus that can infect and destroy.
16. Be right on day one or get out. Don’t take a “red” position home overnight.
17. Keep winners as long as they are moving your way. Let the market take you out on a trailed stop.
18. Money management is the secret to success. Don’t overweight your trades. The more you overweight a trade, the more “hope” comes into play when it goes against you. Hope is to trading as acid is to skin. The longer you leave it in place, the more painful the outcome will be.
19. There is no logical reason to hesitate in taking a stop. Re-entry is only a commission away.
20. Professional traders take losses. Being wrong and not taking a loss does damage to your equity and your mind.
21. Once you take a loss you forget about the trade and move on anyway, especially if it is a small one. Do yourself a favor and take advantage of any opportunity to clear your head by taking a small loss.
22. Never let one position go against you by more than 2% of your account equity. The larger the position, the tighter the stop.
23. Use daily charts to get an idea of the 30-day trend, hourly charts to get an idea of the 1-day trend, and 5-minute charts to establish your entry points.
24. If you are hesitating to take a position, that indicates a lack of confidence that is not necessary. Just get into the position and place a stop. Traders lose money in positions everyday. Keep them small. The confidence you need is not in whether or not you are right, the confidence you need is in knowing you will stick to your stop no matter what. Therefore you can actually alleviate this hesitancy to “pull the trigger” by continually sticking to your stops and reinforcing this behavior.
25. Averaging down on a position is like a sinking ship deliberately taking on more water.
26. Build up to a full position as it goes your way.
27. Adrenaline is a sign that your ego and your emotions have reached a point where they are clouding your judgment. Realize this and immediately tighten your stop considerably to preserve profits or exit your position.
28. Look for opportunities not to trade.
29. Most of the time, you want to own the stock before it breaks out, then sell it to the momentum players after it breaks out. If you buy breakouts, realize that professional traders are handing off their positions to you in order to test the strength of the trend. They will typically buy it back below the breakout point—which is typically where you will set your stop when you buy a breakout. Greed comes into play when the stock breaks out again, and the momentum players are forced to chase it and “pay up” for the stock. Be aware of how trends are established and use that to your advantage to enter and exit positions.
30. Embracing your opinion leads to financial ruin. When you find yourself rationalizing or justifying a decline by saying things like, “They are just shaking out weak hands here,” or “The market makers are just dropping the bid here,” then you are embracing your opinion. Don’t hang onto a loser. Cut your losses. You can always get back in.
31. Unfortunately, discipline is typically not learned until you have wiped out a trading account. Until you have wiped out an account, you typically think it cannot happen to you. It is precisely that attitude that makes you hold onto losers and rationalize them all the way into the ground.
32. Siphoning out your trading profits each month and sticking them in a money market account is a good practice. This action helps to focus your attitude that this is a business, and your business should generate profits on a monthly basis.
33. "Professional traders only place a small portion of their assets into 1 position. Or if they take on a large position, then they strictly limit their risk to 1-2% of their current equity. Amateurs typically place a large portion of their assets into 1 position, and they give it "room to move" in case they are actually right. This type of situation creates emotions that ruin accounts, while professionals are able to make decisions and cut losses because they strictly define their risk."

More pro and amateur differences…


34. Professional traders focus on limiting risk and protecting capital. Amateur traders focus on how much money they can make on each trade. Professionals always take money away from amateurs."
35. Don't be a hero…
    In the stock market, heroes get crushed. Averaging down on a losing position is a “heroic move.” The stock market is not about blind courage. It is about finesse. Don't be a hero.
36. School of hard knocks in the only way...
    Sadly, traders never learn the importance of “the rules” until they have blown their account out of the water. Until you “lose it all” it never seems that important to have to follow the basics of professional trading. (Cut your losses, let your profits run, etc).
37. The market reinforces bad habits…
    The market reinforces bad habits. If early on you held onto a loser that went against you by 20%, and you were able to get out for breakeven, you are doomed. The market has reinforced a bad habit. The next time you let a stock go against you by 20%, you will hang on because you have been taught that you can get out for breakeven if you are just patient and hang on long enough. It doesn’t matter if the stock has just been upgraded or had a favorable write up in Forbes. You still need to protect your capital. In reality, today’s price is the true indication of the value of the stock, as it is the price people are willing to pay. Instead of rationalizing, control your risk by sticking to your stops.
38. Who is accountable for your trades?
    The true mark of an amateur trader who is never going to make it in this business is one who continually blames everything but his or herself for the outcome of a bad trade. This includes, but is not limited to, saying things like:
    
    • The analysts are crooks
    • The market makers were fishing for stops.
    • I was on the phone and it collapsed on me.
    • My neighbor gave me a bad tip.
    • The message boards caused this one to pump and dump.
    • The specialists are playing games.
    The mark of a professional, however, sounds like this:
    • It is my fault because I traded this position too large for my account size.
    • It is my fault because I didn’t stick to my own risk parameters.
    • It is my fault because I really don’t know how to trade.
    • It is my fault because I know the market makers can legally take some of my money, and I knew that going into this.
    • It is my fault because I know there are risks in trading, and I didn’t fully comprehend them when I took this trade.
    The obvious difference here is accountability. For amateurs, everything having to do with the market is “outside their control.” That is not reasonable thinking, and really just points to an individual who has, probably for the first time, had to confront their “real self” as opposed to the perfect self or idealized self they have constructed in their mind. This is also known as “living in a fog.” A person can drift around through life in their own private world, where they are pretty special and can do no wrong. Unfortunately, trading rips off this mask, because you cannot dispute what has happened to your account. This is also known as “confronting reality.” For many people, when they start trading they are suddenly confronting reality for the first time in their lives. Just to see the world as it really is requires a lifetime of training, and for many people trading the stock market is their first real step in this journey. Some people say that traders are born, not made. Not so. If you choose to see the world as it is, then you can start trading successfully tomorrow.
39. Pro vs. amateur trader difference…
    Amateur traders always think, “How much money can I make on this trade!” Professional traders always think, “How much money can I lose on this trade?” The trader who controls his or her risk takes money from the trader whose head is in the clouds.
    CONTROL YOUR RISK
40. Focus on controlling risk...
    At some point traders realize that no one can tell you exactly what is going to happen next in the market, and that you can never know how much you are going to make on a trade. Thus the only thing left to do is to determine how much risk you are willing to take in order to find out if you are right or not. The key to trading success is to focus on how much money is at risk, not how much you can make.

And yes folks, that concludes the 40 bits of trading wisdom. I hope everyone enjoyed them and most importantly, I hope one person out there has taken these bits to heart and that they have made a difference with someone.
To summarize the important points:

• Control your risk by setting your parameters BEFORE you get in the trade.
• Have a plan with each and every trade and stick to your plan.
• Stick to your stops.
• Don't blame others when a trade goes bad, but rather learn from it so it hopefully won't happy again.
• Don't bet the farm! Allocate only a small percentage of your capital to each trade.
• Set a stop with each and every trade.
• Leave hope at the door and stick to your stops.
• Never add to a losing position....averaging down is like a sinking ship deliberately taking on more water.
• Do not yell at your screen trying to "will" the markets in your direction. Be calm, ease in, ease out, no yelling.
• Trading should be boring like factory work. If you are looking for excitement then trading is not for you because you will wipe out your trading account.
• If you get stopped out, so what? Professional traders actively take small losses all the time...it's part of the game. Re-entry is only a commission away.
• Once you are in a trade, immediately begin looking for signs that you are wrong. If something doesn't look right or the reasons that you entered the trade have changed GET OUT before your stop is hit.

Originally posted by Capitulation

38 steps to becoming a trader

Following is a list of most of the steps every successful trader takes during their life. I recently found it in my remarks. I'm not sure of the author of the list so if any of my readers would know, please write me so respectful credits might be given. Happy reading, successful trading and don't forget that things always change! :)

38 steps to becoming a trader

They are as follows:

1. We accumulate information - buying books, going to seminars and researching.
2. We begin to trade with our 'new' knowledge.
3. We consistently 'donate' and then realize we may need more knowledge or information.
4. We accumulate more information.
5. We switch the commodities we are currently following.
6. We go back into the market and trade with our 'updated' knowledge.
7. We get 'beat up' again and begin to lose some of our confidence. Fear starts setting in.
8. We start to listen to 'outside news' and to other traders.
9. We go back into the market and continue to 'donate'.
10. We switch commodities again.
11. We search for more information.
12. We go back into the market and start to see a little progress.
13. We get 'over-confident' and the market humbles us.
14. We start to understand that trading successfully is going to take more time and more knowledge than we anticipated.
    
    MOST PEOPLE WILL GIVE UP AT THIS POINT, AS THEY REALIZE WORK IS INVOLVED.
    
    
15. We get serious and start concentrating on learning a 'real' methodology.
16. We trade our methodology with some success, but realize that something is missing.
17. We begin to understand the need for having rules to apply our methodology.
18. We take a sabbatical from trading to develop and research our trading rules.
19. We start trading again, this time with rules and find some success, but over all we still hesitate when we execute.
20. We add, subtract and modify rules as we see a need to be more proficient with our rules.
21. We feel we are very close to crossing that threshold of successful trading.
22. We start to take responsibility for our trading results as we understand that our success is in us, not the methodology.
23. We continue to trade and become more proficient with our methodology and our rules.
24. As we trade we still have a tendency to violate our rules and our results are still erratic.
25. We know we are close.
26. We go back and research our rules.
27. We build the confidence in our rules and go back into the market and trade.
28. Our trading results are getting better, but we are still hesitating in executing our rules.
29. We now see the importance of following our rules as we see the results of our trades when we don't follow the rules.
30. We begin to see that our lack of success is within us (a lack of discipline in following the rules because of some kind of fear) and we begin to work on knowing ourselves better.
31. We continue to trade and the market teaches us more and more about ourselves.
32. We master our methodology and our trading rules.
33. We begin to consistently make money.
34. We get a little over-confident and the market humbles us.
35. We continue to learn our lessons.
36. We stop thinking and allow our rules to trade for us (trading becomes boring, but successful) and our trading account continues to grow as we increase our contract size.
37. We are making more money than we ever dreamed possible.
38. We go on with our lives and accomplish many of the goals we had always dreamed of.

ECB interest rate decision

Updated with the current ECB decision and Mr. Trichet's statement

With the approaching of the ECB meeting on Thursday it seems the markets are getting more nervous and volatile. EUR lost more than a percent against USD on Monday and regained that percent back in Tuesday. US equities followed suit although their movements were far bigger and the changes were about 3% in both directions. The "fear index" VIX moved about 10% up and down for the first two days of the week.

The US equity markets finished strongly upward on Tuesday as FED's chairman Mr. Bernanke assured the markets "he’ll push forward with further expansion of monetary stimulus if needed ". After the strong selling during the last weeks and rebounding from the new low for the last two months made on Tuesday, the market seems hungry for good news. Mr. Bernanke's speech fitted well into such market expectations.

On the other side of the ocean Europe is still struggling with its sovereign debt problems. The Moody's Investor Service cut Italy's credit rating to A2 from Aa2 which at first made European equity markets to stay behind the increase of the US market from Tuesday. Later during the day the EU stocks advanced. Such an increase amidst credit rating downgrade (although possibly expected), an unexpected drop in EMU Retail Sales (YoY) of -1% and a decrease in Purchasing Manager Index Services in EMU could speaks of a strongly oversold sentiment. The same sentiment seems to be present in the US equity markets also.

So if everyone is focused on the ECB decision on the interest rate on Thursday, let's elaborate a bit on the possible outcomes.

Chart 1. Inflation in euro area, annual, non-seasonally adjusted; Source: ECB

The market consensus is that the ECB would leave its rate untouched at 1.5%. Any deviation from that consensus could sparkle market movements in both directions. Even if the ECB does not change the rate, the language it would use in the press release could signal the bank's further intentions.

In general ECB is strongly concerned with price stability. The last data on inflation in EMU showed an increase to 3% on annual basis after previously decreased a bit. Thus the market consensus that ECB would leave the rate unchanged seems reasonable enough as any further increase in the money supply by lowering the rate has the potential to increase the inflation pressure.

On the other hand data from October 5, 2011 show the growth in euro area slowed significantly to 1.6% (YoY) from the previous 2.5%. The combination of a high inflation and a slow growth does not seem to be in favor of any further increase in the ECB interest rate in the short-term. Such a combination however, does neither support a strong decrease in the rate which the currency markets seem to be hoping for as that would boost inflation. So basically that puts the two extreme options – an increase in the rate and a strong decrease out of the table for now.

We are then left with those two – rates unchanged as is the market consensus and a small decrease which would be a surprise given the consensus.

If the interest rate is left unchanged that would not have any significant direct effect on the markets as this outcome seems already priced in. The markets could continue to be moved mostly by oversold moods and short rallies. Not lifting the rate given the present weakness of the euro combined with the sovereign debt problems in EU however, could signal the ECB is not so strongly on the euro defensive position at the moment. That could increase the short-term confidence in the EU common currency or at least not hurt it further. All that however does not seem so strong to present a long-lasting and deeper change in the market sentiment if we account for the sovereign debt problems as well.

The second option which seems possible given the slowing growth, is a decrease of .25 basis points to 1.25%. Such an decrease would not hurt so much the interest rates differential between USD and EUR as to strongly send the Euro further down. Such a strongly weaker euro scenario does not seem a desirable outcome for the EU officials either.

A small decrease in the rate would be a surprise given the consensus and could give equity markets confidence the ECB is concerned with growth in EU at least as much as it is with price stability. That could more possibly result in EU markets increase than in US but in general both markets follow suit. The current negative sentiment resulted in a bit oversold market condition on both sides of the ocean and lead to a series of bullish divergences in EU stock markets on a short-term scale. In this light such a decision could lift up the world equity markets for a while as it would mark a possible shift in risk taking. In a longer perspective however, the commodities prices should be watched as they are able to present a big pressure on a macro level and limit growth while increasing inflation.

-----UPDATE-----

The ECB decided to leave its main refinancing rate unchanged at 1.5% so basically there were no surprises. Still the bank sees the situation as worsening concerning the EU growth prospects in the following months. ECB officials believe the inflation will continue to float above the 2% threshold but it will eventually calm down further on the line. Given the growth continues to be sluggish and inflation calms down, a coming decrease in the rate of at least .25 basis points could not be ruled out in the months till the end of the year.

You may also want to check the full text of Mr. Trichet's statement concerning the ECB decision on its rates.

Gold fever. Will its price fall?

For the last year Gold has attracted much of attention. There are numbers spoken in the range of 1500 to 5-7000 and rumors of bets in those areas. The notion is that if this is spoken of, it might happen. So everybody rushes in and tries to get a share in the profits. It's like people expect and believe the market is just and it is its duty to give them what they need. The sad truth is, to paraphrase what Mark Twain once said, that the market owes you nothing because it was here first.

Gold price might continue to rise. If the demand exceeds the supply this would be normal. Even if the trading never gets to deliver real bullion the price would still be a question of demand and supply. The only difference would be the leverage that is possible to be used when trading not in real bullion. The amount of that leverage however could vastly increase the available amount of money that could be poured into Gold and effectively to create a pump&dump structure similar to the credit bubble and the housing ones. These however, are only assumptions and possible future scenarios. Nothing is sure in markets.

Let's take a look at the historical movement of Gold compared to the movement of Euro/Dollar pair. As these are past numbers we could use them to make some notes or even conclusions.

Table 1. Changes in price of Gold and the value of US Dollar against the Euro

	1995-2001	2001-2008	2008-2008.10	2008.11-2009.11	2009.11-2010.05
Gold	- 39%	284%	- 41%	73%	5%
EUR/USD	- 39%	80%	- 29%	22%	- 20%

This comparison draws some interesting ideas.

The first one is that in general for the last 15 years Gold and Dollar were negatively correlated and the Euro and Gold were positively correlated. This means that whenever the Dollar rose in value against the Euro the price of Gold fell. This happens to be true till the last period which starts around the end of last year (November 2009) and continues till now. During this last period at first there is a slight fall of the Gold price in accordance with the rising value of the US Dollar but shortly after the Gold continues to rise and now Gold and Dollar seem to have broken its previous type of correlation as the value of Gold was increased by 5% for the period accompanied by a 20% rising of the Dollar.

In the light of the last market turmoil this could mean a lot more people could be using Gold as a hedge against a possible economic downturn. Or at least these people (or orders) entered the market in the last several months and were enough to break the previous type of negative correlation that was in place.

A second thing of note on the table above is the value of the correlation. Before 2001 the table shows the value was pure -1 which means there is a great possibility that the value of Gold was calculated in the "buying power" of the US Dollar. Thus every drop in the US Dollar drove the Gold price higher in the same proportion and vice versa. After year 2001 this doesn't seem to be the case.

During the later periods the negative correlation was still in place but it's power was changing. The proportion of movements (or say it Beta if you'd like) changed from pure -1 to more distorted values. For the next period the price of Gold rose 3.55 more that the value of the Dollar fell. With all other conditions equal this could mean there was a 3.55 times more demand for Gold than in the previous period. Such an increase in real demand looks a bit striking but having in mind the construction and debt bubbles all over the world in that period makes it not so impossible. The next periods just continue to distort the strong negative connection between the Dollar value and the Gold price. Thus we come to the last period in which the Gold price and the Dollar started to move in the same direction in contrast to all the previous periods in the table.

An interesting thing about the beginning of the century is that in the years of 1990-2001 the electronic means of trading became widely available. And then after year 2001 there came the CFDs to their fullest. This marked the era of the easy access to the market and eliminated the need to really own the shares (or commodities!) you trade in on leverage. With CFDs the leverage could go up to 1/100 or even 1/500. So a person with $1000 could have a buying power of $100000. This increased amount of available money could explain the bigger proportions between the movements of Gold and US Dollar during the period after year 2001. As the CFDs are not available to US investors this could mean that the world outside the US could be the reason for the changing the proportion.

Generally the price of Gold was affected by the value of the Dollar which happened to be lower in times of economic strength and growth and higher in troubled times. The higher value of Dollar when there are troubles in stock markets is possibly because the Dollar is perceived as a save-haven currency. I believe there is a chance the next recovery will be also accompanied by a weaker Dollar as this will help the US economy. So if the current newly found state of positive correlation between Gold and Dollar prices is preserved, this would mean the Gold could fall accordingly.

The last upside in the Gold price despite the rising Dollar and in the light of Europe's debt problems speaks that it could be mostly used as a hedge instrument now. Apart from the fact that using as a hedge something you own only on paper and not "holding in your hands" devalues the idea of hedge itself, using Gold as a hedging means that when there is no need to hedge a imminent danger, there would be no need to hold Gold.

All the above thoughts lead me to a conclusion that when times get calmer and the horizons look brighter the Gold price could fall. Even just in order to compensate the change in the correlation that appeared during the current crisis. There are technical signs that such a move could not be so much ahead in time but this would be a topic of another article.

Macro analysis on the US Dollar value - May, 2010

The current uptrend of the Dollar made many people talk about the possible failure of the EU zone, the parity between the Euro and the US Dollar and even brought ideas of Euro disappearing as a common European currency.
Let's see some figures.
The Trade balance of USA for the last 3 years (since the crisis began) shows that the periods of US Dollar gaining value are accompanied by decreases in the country's import and export of goods and services.

Plot this into the current Forex market conditions and the macro economic data from USA. Consider the following table of quarterly US GDP and EUR/USD (Euro/Dollar) graph (click on the graph for a better view).

Table 1 - USA GDP

14	Net exports of goods and services	2009 I	2009 II	2009 III	2009 IV	2010 I
15	Exports	-29.9	-4.1	17.8	22.8	5.8
16	Goods	-36.9	-6.3	24.6	34.1	6.7
17	Services	-13.6	0.1	5.6	2.6	3.8
18	Imports	-36.4	-14.7	21.3	15.8	8.9
19	Goods	-41.0	-16.5	25.1	20.3	9.0
20	Services	-11.5	-7.5	7.0	-1.9	8.7

EUR/USD graph

The US Dollar for the last 5 months got near its highest levels since the start of the crisis and for the first quarter of 2010 the USA trade balance from the GDP table shows a lesser increase than the one marked for the previous quarter (in which the US Dollar was near its lowest level since the crisis start). Following this logic, the second quarter could prove identical or worse results.
An interesting conclusion from this comparison is that even with the higher value of the dollar the US economy was not able to achieve a higher growth of the money inflow to the country from foreign trade compared to the last quarter. So generally a weaker Dollar works better for the export/import businesses. Especially in a situation where the domestic consumption is not as strong as desirable.

Surely the strong Dollar is not the only obstacle in front of the USA sustainable growth. But in the current US economic policy of "easy money" it doesn't seem to please anyone but maybe the big petroleum companies which could have gained from both the increase of crude oil price and the increase of the Dollar value.

The current policy of FED has proved to be actively in favor of using monetary measures to expand consumer spending. There are no signs it will be changed in the near future. Basically this means pouring more money in order to stimulate spending relying mostly on the Keynes multiplier.

With all that said the current stock market and Forex market situation seems perfectly fit. A possible direction would be an increase of the available US Dollars on the market which will achieve two goals - stimulate (even if considered as being an artificial stimulation) domestic spending and bringing down the US Dollar value against the Euro (which happens to be the major currency it values against). The lesser value of the US Dollar would again increase the activities in foreign trades area and in turn would increase its share in the US GDP. As most of the major companies traded on the US stock exchanges are doing an international business this would reflect in possible increase of their financial results.

A collection of pages for interest rates and Inflation

There are plenty of websites on international interest rates and other economic information. Here is a collection of 5 which could give you quite an interesting insight of the current money conditions in the world.

1. www.euribor-rates.eu - an informative website where one could learn what Euribor is and how its value could affect the mortgages or one's personal savings.
2. www.homefinance.nl - the website has an English version where one could check the current International Interest Rates. The page about USD LIBOR gives a plenty of information up to date. The website also provides some free tables and graphics about EURIBOR, EONIA, ECB Refinancing Rate and FED federal funds rate which you could use on your own website.
3. www.global-rates.com - in the LIBOR section of the website there is a lot of historical and up-to-date data on LIBOR rates.
4. Central Bank Interest Rates - this is a subsection of the previous website which summarizes the current interest rates of major central banks and also provides insight on the previous changes and behaviour of each of the banks.
5. Inflation Information - again a subsection of global-rates. A great source of historical information collected in one place. The US CPI of 2.6 released today is still not marked on the site but I hope this will be corrected soon.

FOMC rate unchanged

The Federal Open Market Committee left the interest rate unchanged - at 0.25%. That was more than expected. What was slightly more unexpected from the broad market was the more upbeat expectations of the FOMC. Part of the real words used in the statement were

"Information received since the Federal Open Market Committee met in December suggests that economic activity has continued to strengthen and that the deterioration in the labor market is abating. Household spending is expanding at a moderate rate but remains constrained by a weak labor market, modest income growth, lower housing wealth, and tight credit. Business spending on equipment and software appears to be picking up, but investment in structures is still contracting and employers remain reluctant to add to payrolls. Firms have brought inventory stocks into better alignment with sales. While bank lending continues to contract, financial market conditions remain supportive of economic growth. Although the pace of economic recovery is likely to be moderate for a time, the Committee anticipates a gradual return to higher levels of resource utilization in a context of price stability."

These words are much more upbeat than anything in the last several years. Still there is a caution expressed and the committee clearly prefers to leave the target rate unchanged while the US economy becomes more stable.

With so much unemployment and lesser material costs it is not surprisingly they don't see a high inflation in the near future - "with longer-term inflation expectations stable, inflation is likely to be subdued for some time".

With that in mind the FOMC states the economic conditions "are likely to warrant exceptionally low levels of the federal funds rate for an extended period". An interesting thing to notice is that there was one voter against the policy - "Thomas M. Hoenig, who believed that economic and financial conditions had changed sufficiently that the expectation of exceptionally low levels of the federal funds rate for an extended period was no longer warranted". This in fact in sync with the positive tune of the statement and could be pointing that the change in the FED target rate is getting closer.

Still the FOMC main purpose seem to be to ensure the overall recovery from the recession and lifting the target rate will be done after they are sure the improvement won't be damaged by the higher rate.

As the current crisis is caused mostly by excessive lending and risky operations the statement that "...While bank lending continues to contract, financial market conditions remain supportive of economic growth." is maybe one of the most important.

What could be expected in the next several months?

An optimistic view is that the lower rates will continue to be present and as the trust between financial institutions is regained they will start lending more easily to each other. After that such a low target rate won't be needed anymore. In the mean time the unemployment could gravitate around the current levels but the business could start to produce again. Supported not on the last place by the stabilized banks. Only after the companies start to gain some power the unemployment will start to fall as there will be more workers needed again.

The expanding long Eurodollars positions of the Non-commercial players on the futures market support the view about more easy and cheap access to dollars in the next 3 months. These players basicaly happen to be the ones that lend the dollars.

The whole FOMC statement as presented on Marketwatch.

Stocks and the Dollar - will the negative correlation break?

I think it's quite possible.
The time of this breakage is questionable though. But all the ingredients seem to be in place. The government officials speak more often about a stronger dollar. The last Bernanke remarks are just in line. About half a month ago the president Obama spoke on a meeting with an advisory board about the fact that America has to find a way to sustain growth without so much debt. Last week US Treasury Secretary spoke about the same strong dollar topic in Japan.

But the officials are just the surface, I believe. They prepare the public and the markets. The real reasons could be drilled down to a simple "demand & supply".

The more quantity you have of something, the more cheaper it is. With all those trillions of Dollars poured into the system (mainly as M1 money! which means the real amount of money expected to reach the public is multiplied by some figure) it's no suprise the dollar is cheap. Yes, there are more complicated connections in the market but the bottom line stays the same. Remember the times when Central banks occasionally were starting to buy their own currencies in order to lift their price? Things might have not changed so much...

There are at least two ways to decrease the supply of dollars - increasing the base interest rate of FED and getting back at least a part of the dollars put in the system. Leave aside all the demand for dollars that might be generated from the market.

For the last several years the stronger the dollar went, the lower the US stocks fell. This has something to do with the notion that the cheaper the dollar is, the more U.S. export there is and that stimulates the U.S. companies. But this might no longer be the case. Because no matter how cheap you sell, you have to sell to anyone. And when the world demand simply vanished, the cheaper you sell, the more you lose.

Add to this the prices of oil which closely reflects the movement of the dollar. Since March 2009 the dollar has lost about 18% of its value against the Euro. The crude oil more than doubled for the same period. This could be one of the main reason why the US officials want a stronger dollar. No matter how big are their oil companies and how much they export, they can't fill the gap and the damage the high oil price does to the America's economy.

The macro needs seem to come first and before the needs of the financial system now. Especially when that system is sort of stabilized. That explains all the talks about alternative energy sources and the eco economy. But to develop such economy takes time. The one thing that could give America the needed time happens to be a stronger dollar. Yes, maybe most of the near-time future profits of export oriented companies (which happens to be most of the big companies on U.S. stock exchanges) will suffer a decrease but this could be a sacrifice needed.

The last point is when the stocks and the dollar start to move more or less in the same direction. Or at least in not so heavy negative correlation. Aroung and above zero could be the best :) But this seems to be a tough task. It will take time for sure.

an interesting story...

There is a story about a man who followed the stocks only by the papers. For several months he lived up in the mountain with no TV or Internet. After that, when he had decided the time has come and the moment was right he was going down to the town and was making his trades. Depending on the trade he was buying or selling. He constituted his portfolio and went up to the mointain again. He was not in a hurry. That gave him the freedom to see the big picture.

Sometimes you have to stop. To get back from what you are doing and to relax. To keep some distance between you and your work, so you could get a better view of it. Eagles fly high! Because from that point you could see farther and wider. Predict for a longer period and at the end collect the better profit.

Sometimes we all get so close to details that we miss the whole thing. We strive to win, going up and down.. And we think we are a part of the winning team, not realizing how small our profits are and how much we lose only for the thrill of being in the midst of everything. The commission eats away much of the profits we make, the chance takes some other part and we a left with just enough profit so our desire to play do not get burned out forever. That small profit is our enemy! Forget that it pretends to be a friend.. :)

Actually it depends on what one is looking for - the thrill or the money?.. There are cases when both are closely connected but such cases should be really worthy! Otherwise what's the point in putting money in someone's else pocket?!.. If you would do so, you'd better give them deliberately to the ones in need. At least they can't make them on their own..

So don't forget to relax. Take your time and get back so you could see the bigger trends, the macro reasons and the economic conditions as a whole, not just a part of it. See wider, predict wider, think longer...

"Think global, act local" :))